Is the recent flagging performance the start of a cyclical and perhaps
extended downturn, or just a blip in an otherwise upward trend? And how can
investors best capitalize on whichever scenario ensues?
I spoke recently with
Chip McKinley, senior vice-president at New York, NY-based money manager Cohen &
Steers, and sub-advisor to one of the top-performing Canadian funds in the
Real Estate Equity sector,
United Real Estate Investment Pool Class A. (The fund is available through CI Investments’ subsidiary
Assante Wealth Management, and is administered by CI Investments Inc.) According to McKinley, the
downturn was indeed a temporary aberration. “After a healthy total return
in 2012, decent returns in 2013, and a very strong 2014, the market started
going sideways in 2015 and turned negative in mid-2016,” he said, adding,
“This was a global phenomenon, although it was probably worse in the U.S.”
“There were a couple of factors [behind the downturn],” McKinley explains.
“First there were growing signs of accelerating economic growth,
particularly in the U.S. but also in Europe and Japan. Inflation was
rising, and it’s ironic that increasing expectations of economic growth and
inflation had a negative impact on real estate, at least in the short term.
“If you look at risk-free Treasurys, yields all went up in 2016, and
[Federal Reserve chair Janet] Yellen set the stage for further increases in
2017,” McKinley says. “That sent the value of all yield-generating assets
down, and real estate is a category that shares the characteristics of both
fixed income and equity investments. Normally, real estate is like equities
in that it can generate real per-share earnings growth, but like bonds,
real estate is also a yielding investment. If interest rates spike, as they
did last year, investors mark down prices.
“That was actually a good thing, though,” McKinley adds. “I think it sets
up moderately strong underlying fundamentals for many companies. It should
result in cash flow growth for shares, and some scope for multiples to
increase. That should lead to healthy total returns for the next one or two
years at least. We’re more bullish than we’ve been in the last couple of
As for how best to capitalize, McKinley intends to continue applying a
fundamental, bottom-up valuation process based on rigorous in-depth
research using a dividend discount model (measuring the present future
value of future cash flow) as well a net asset value approach (appraising
the value of properties). “Those are the two main valuation metrics, and
both are equally important, but when you combine them both, it’s a much
more powerful tool.”
McKinley applies the measurements to find “the best real estate companies
wherever we find them globally,” he says. “These companies give us a very
broad set of investment opportunities, so we can diversify very
significantly, while seeking strong recurring income and regular growth
from rent, occupancy, and property values.
“For example, we can target offices in Australia, or hotels in Tokyo, or
shopping malls in London,” McKinley adds. “They’re not correlated, so as
one kind of property reaches its peak and generates maximum returns for
that type of investment, we can rotate from those that are now fully valued
to those that are at the bottom on their trough.”
At the end of December, the fund had allocated 51.5% to U.S. equities,
Simon Property Group (NYSE: SPG),
SL Green Realty Corp. (NYSE: SLG), and
Red Rock Resorts Inc. (NASDAQ: RRR). Another 38.3% was devoted to international equities, including
Tokyo Tatemono Co. Ltd. (TYO: 8804),
Klepierre SA (EPA: LI), and
Mitsui Fudosan Co Ltd. (TYO: 8801).
It’s the same approach that, notwithstanding this latest blip, enabled the
United Real Estate Investment Pool to generate 3- and 5-year average annual
compound returns of 11.9% and 13.4% respectively through Dec. 31, 2016 –
one of the best performances in the real estate equity category.
is an experienced financial and business journalist and a frequent
contributor to the Fund Library.
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